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Coasian thinking

220px-CoaseRonald Coase passed away yesterday. In his 102 years, he had an extraordinarily widespread impact on economics; especially its interactions with legal thinking. There is much discussion today about his contributions; in particular, was the Coase Theorem really a theorem and the Coase conjecture ever proved. But, in so many respects, those discussions miss the point. Coase was significant because of the way he changed how people approach economic problems.

Take the Coase theorem. It says that if people can bargain efficiently then we can get social efficiency. The significance of that is that it turned our approach to market failure on its head. Prior to Coase, there was a very arms-length market centric view of externalities and public goods. This led famously to characterising market failure as a problem of missing markets and to our now best solutions to deal with global externalities such as carbon pollution. I had heard it recounted that when Coase presented his ideas at the University of Chicago, he experienced a huge amount of push back. No one believed that bargaining might resolve the externalities issue. Coase won that argument not by proving a theorem but by convincing economists that they had missed the ability of non-arms-length interactions to resolve conflicts including those that could not be easily priced.

The power of this was to focus attention on the microfoundations of efficient bargaining. These included the existence of transaction costs, information asymmetries, non-transferable utility, wealth effects and problems of voluntary participation. In other words, to make a case for market failure one needed to delve deeper than presenting an externality. This idea, however, was useful in teaching us how to approach externalities. What if we could find that efficient bargain? Just last week, Tim Harford described Elinor Ostrom’s approach to understanding the provision of public goods.

Her research on managing water in Los Angeles, watching hundreds of different actors hammer out their messy yet functional agreements, provided a powerful counter-example to Hardin. She knew of other examples, too, in which common resources had been managed sustainably without Hardin’s black-or-white solutions.

The problem with Hardin’s logic was the very first step: the assumption that communally owned land was a free-for-all. It wasn’t. The commons were owned by a community. They were managed by a community. These people were neighbours. They lived next door to each other. In many cases, they set their own rules and policed those rules.

As I read it, Ostrom looked for Coasian bargains being actually made and found them all over the place. I used the same logic when thinking about business models for digital markets in Information Wants to be Shared. And, moreover, I thought these ideas were so important that I started my MBA textbook with Coasian bargaining rather than presenting it as some policy afterthought. The same approach turned anti-trust thinking on its head in the 1970s leading to a far deeper and far more robust way of approaching the regulation of market power.

Coase asked great research questions. Why do firms exist? Do durable monopolists have market power? And can clear property rights solve the problem of social cost? But, in reality, his lasting legacy was to get us to ask the right question: can we think of an arrangement that will resolve conflicts that will make all parties better off? To be sure, Pareto considered that question but it was Coase who lit the path to its broader application.

To that end, to all those writing today explaining Coase’s contributions, have a thought for his Wikipedia page and take the opportunity to contribute to a public good by improving it. After all, if you think something is important enough to put on a blog post and it is description rather than opinion (as this post is) then doesn’t it deserve the widest audience possible and a durable legacy?

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